New research from the International Monetary Fund (IMF) finds that the long-term impact of regulatory reform in the financial sector is likely to be rather modest.
The paper published Tuesday by the IMF aims to estimate the long-term effect of the regulatory reforms that have been adopted in response to the financial crisis on lending rates, and concludes that the impact will be small. The study estimates that average bank lending rates are likely to increase by 28 basis points in the United States, 17 bps in Europe, and 8 bps in Japan in the long term.
“By comparison, the smallest increment by which major central banks adjust their short-term policy rates is 25 bps, which tends to have a small effect on economic growth,” it notes.
The paper finds that reforms such as higher capital requirements and liquidity minimums will lead to an increase in lenders’ operating costs, which will, in turn, affect their customers, employees, and investors. “Yet banks appear to have the ability to adapt to the regulatory changes without actions that would harm the wider economy,” it says.
The IMF says its cost estimates are based on several references, including academic theory, empirical analyses from industry and official sources, as well as financial disclosures by large banks. It also follows methodologies that were used in previous studies by academics and the official sector. However, it estimates that lending rate increases will likely be significantly smaller, than other studies found.
It suggests several reasons for its lower estimates, including: market forces are expected to account for some of the increase in safety margins; banks are expected to absorb part of the higher costs by cutting expenses; and, investors are expected to reduce their required rate of return on bank equity due to the safety improvements.
The study concedes that it does not include potential transition costs as banks adjust to the new regulations. Nor does it assess the economic benefits of financial reforms. It also notes that a number of regulatory reforms are not modeled, and the estimates rely on judgment. “Nevertheless, the results appear to be a balanced, albeit rough, assessment of the likely effects on bank lending,” it says.
“The relatively low levels of economic costs found here strongly suggest that the benefits in terms of less frequent and less costly financial crisis would indeed outweigh the costs of regulatory reforms in the long run,” it concludes.